Budgetary control as a performance measurement tool
Budget setting process- The beginning
Since budgeting is an estimation of the future, it can be challenging to set a budget. Below are the three most commonly adopted methods for setting a budget. Organisations can follow either or all of the above to form the budget. The only important point is to build a practically achievable budget, motivate the members and build consensus across the team.
Activity-based budgeting method determines total targeted sales first, and activities to support the level of operations are identified separately, based on which the cost is derived. This is a bit harder to work and involves a lot of uncertainties, but it is a good budgeting method. It allows revisiting every activity and opens opportunities for cost reduction and efficiency.
The chosen budget-setting method can take two approaches based on the starting point. The first is the top-down approach, visibly present in activity-based budgeting, in which management sets the top layer, which further drills down to the bottom. In the second approach, called the bottom-up approach, like in zero-based budgeting, the budget starts at the bottom layers of the organisation, and adds up towards the top, forming organisational budget.
Teamwork is essential
In practice, the budget-setting process is tedious and involves abundant communications and discussions between departments and management. It will be challenging for the group budget owner to distribute the efforts across different functions and to obtain consensus. The point of utmost importance is the basic principle that group goals are superior to the individual or departmental goals.
The importance of Budget Vs. Actual
The budgeting exercise becomes meaningless if the comparison of actuals with budgets does not take place, and the reasons for variances are not treated immediately. Budget errors and shortfalls need to be corrected immediately, and the variance analysis must be done at regular intervals. Many organisations follow a monthly review cycle, which is recommended.
Measurement- key challenge in budgetary control
One of the challenges that needs to be foreseen at the budget setting stage itself is measurement. Periodically measuring and consolidating the actual state of affairs within a timeframe is challenging. To ease this, the data capturing patterns and the budget parameters need to be aligned. For example, if the budget sets for X amount for passenger vehicle fuel, and Y amount for plant fuel, the usage recording needs to differentiate and classify fuel cost accordingly, in the absence of which comparison becomes impractical.
Every performance should be recognised with rewards, and management’s attention should support every lack of performance.
The budgetary control system has been a trusted performance driver in many successful organisaions for decades. Key management vision, commitment, support and encouragement become vital in the success of any budgetary system. When all these factors work together, wonders are the result.